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Bashes, Crashes and Ashes

Sunday, August 03, 2014

In keeping sensationalism alive, some people have been calling for parabolic market runs while others have predicted crashes since Columbus hit shore. Eventually everyone is right and that is the beauty of market forecasts, especially when selective memory is employed. The recent deluge of “asks” with increasingly lower “bids” drove the market down a couple of notches on July 31st, while the financial media struggled to explain the cause to their audiences because they must justify their existence even if they are clueless, which is often the case.

Was it the Hamas/Israel conflict, Argentina, Portugal, GDP, FOMC statement, interest rates, Europe’s CPI, Chicago PMI, Employment Cost Index, all of the above or something else? Maybe a simple and quick squeeze of the over-leveraged longs, with everyone headed for the door just because that was where the crowd was going. Or maybe the market played a prank on the trader that placed “The million-dollar bet that the S&P will skyrocket,” with the strategy being known as “ratio calendar risk reversal stupid.”

Well, the event was highly predictable, and here’s why. You see, the S&P 500 (SPY) closing high was 1987 and that was the first clue because that was a crash year, and the second clue came from the fact that the last time the S&P 500 dropped 2% was on April 10th. The clever observation the day before was that there are 112 days between April 10th and July 31st, and as Banco Espirito Santo hit the ropes, one must know that the Portuguese emergency number equivalent to 911 is 112. Time for the sirens!

Thus, I sold 100 S&P 500 futures contracts at the close on July 30th and pocketed $200,000 one day later. Wow… really? No, not really, because I spent the day at the beach with Molly Mae, my new Australian Shepherd and partner in charge of market instinct. I though that she was warning me in the early morning when she barked at the computer screen, but she was asking to step outside, and to please bring the biodegradable plastic bag.

Truth is that I had no positions on July 31st, although I held short positions a few days prior but covered because I adhere to very strict criteria, and never, ever look back, because I am not emotionally attached. It’s just a market of stocks, but it could be used socks if just as profitable.

After a widely discussed and distressing Q1-2014 GDP contraction of 2.1% (revised up from -2.9%), comes a rebound of 4% (so far) for Q2-2014 giving bragging rights to the “I told you so” crowd. The truth is that we’re growing at about 0.50% for the year and sliding into the mud, and the rate hike talk following the GDP number faded with the jobs report. Who could have thought that the 30-year Treasury would return over 7% year-to-date, with the 10-year up almost 2%?

I have plenty of free time and enjoy scouring the news and pseudo-news outlets for interesting facts and fiction, and came across an article that discussed Abenomics, which included the chart below (I added the words in blue) depicting only a subset of sovereign debt.

I paused and looked at the astronomic debt accumulated over the last 24 years, and asked the following: “Who has been in charge of governments?” Largely lawyers and economists of all political persuasions with the support and advice of allegedly illustrious academics, aided by the always amusing manipulation of political consultants. This is the main reason why I don’t put too much emphasis on impressive titles and a formal education -- four degrees later. While everyone complains on a daily basis about the dysfunction of governments, the very same type of inept people keep being elected while promising what they cannot deliver and driving public finances off the cliff.

Now I am not an alarmist but if anyone thinks that the bill for all the free lunches depicted in the graphic above will not come due, then I have a goose that lays golden eggs to sell to you. As politically incorrect as it may be, the global fat lady hasn't sung yet, and the next time anyone, especially politicians, tell you that we’re on the path to prosperity, fill their mouths with soap.

As indicated numerous times before, Europe’s economic and debt disease continues to fester, but the expectations are tremendously misplaced, especially as debt continues to be acquired hinging on the belief that the ECB will fix it and save the day. A recent article pointed out that “Europe's bond yields lowest since 15th century Genoa on deflation, Russia risk,” and the one word missing from the headline was “default.” Certainly everything can always be resolved through currency devaluation, as some will propose, but although it may work temporarily for a single country, the resulting higher exports must be soaked up by someone else and the European Union is a whale, not a sardine.

Defaulting or “restructuring” government debt, coupled with lower taxes and more sensible social programs is a way to turn the ship around, but how does one dismantle a sociopolitical aberration called Europe without side effects? Impossible, and the USA is well on its way to achieve the same stupidity. Although I firmly believe that a civilized society must provide temporary safety nets and social programs for the less fortunate, coupled with accountability and responsible behavior by all parties involved, eventually the productive side cannot accommodate the needs of the expanding non-productive masses. That’s simple arithmetic and it doesn’t take a high priced, low value degree in “Krugmanomics” to figure that out. But once fixed, they must insure that policies will not recreate the chart above over time. Good luck on that!

As yet another fascinating development, the BRICS Bank was created to compete with the useless IMF as a political statement, and the partners -- Brazil, Russia, India, China and South Africa -- should have been more creative and refrain from using an acronym created by a westerner. That says everything! In addition, between January and May of 2014 “China bought US$ 107 billion of Treasury debt maturing in more than one year, up from US$ 81 billion for all of 2013.” No comment needed and moving right along, and in case everyone forgot, the BRICS do no have sustainable domestic markets and have no intention of expanding the middle class because it’s bad for the entrenched political elite.

In January of this year, I made the following observation in the articleChina's Countdown Continues, Russia's Turning Point And Conflicts Galore.”

When Benjamin Netanyahu called the West/Iran nuclear deal "an historic mistake," he probably didn't know just how historic it was. Or maybe he did! As it stands, something must give in a serious and disruptive manner over the next 24 months, leading to a wider conflict with the enormous potential of being reminiscent of the 1940s in scale, and hinging on ideological, religious and racial differences with poor economics as the background and fueling sentiment. Definitely a turn of events that nobody wishes for, but it will redefine the geopolitical landscape for generations to come. World War II did that, and it's humanity's cyclical behavioral predictability at its best.

Where are we now? Well, Iran’s July 20th deadline was postponed for four months “and let Iran access another $2.8 billion of its cash.” The comforting bit of information was that a “western diplomat said there had been some progress,” while receiving absolutely nothing from Iran and handing out a pile of cash and more time to work on the bomb. Simply stellar! That so-called “negotiation progress” is extremely disturbing when contrasted with the fact that “IAEA worried about slow progress in Iran nuclear probe.”

However, so far there appears to have been little - if any - movement by Iran to engage on them, the sources said on condition of anonymity. They said there was still time for Iran to meet its commitments, noting that it in the past occasionally had waited until the last minute, for example when it provided details in May about another issue that forms part of the IAEA's probe. But the slow pace of cooperation may reinforce an impression in the West about continuing Iranian reluctance to give the IAEA the information and access to sites and people that it says it needs for its investigation. There was no immediate comment from Iran or the IAEA.

Then we have the now somewhat forgotten Syria, an exploding Iraq with ISIS and Libya which has done a tremendously great job of embracing their new found freedom. Still believe that these people can function without a dictatorship, be it secular or theological? In case you’re confused, that’s the reason behind supporting ruthless and disgusting dictators and monarchs like the Saudis.

Thus, apart from the still subtle but ongoing and developing economic weakness and unresolved sovereign debt issues that markets never discount, we are now fixated on the Hamas/Israel conflict and the inevitable destruction and human suffering. Although John Kerry continues to gather frequent flyer miles, there isn’t a thing that he can do because the tipping point has been reached with Israel seeing threats emanating from every cardinal point. If anyone hasn’t noticed, the window for dialogue is closing quickly because diplomatic words no longer carry any weight. Whether one agrees or disagrees with what is happening on the ground is completely irrelevant, because one must do what one must do, and the calendar that I call GEC is at work.

From a non-religious perspective here’s how it plays out: The Saturday people and Sunday people will send the extreme factions of the Friday people and its supporters all the way back to Monday without reservation. No need for discourse and complaints. Just watch! Lastly, the irony came from Turkey, with the suggestion by Deputy Prime Minister Bülent Arinç that women should not laugh in public. Perfect timing because there will not be much to laugh about! Now back to the beach with Molly.

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